Note

—

Commitments and Contingencies

Operating Lease Obligations

We lease facilities under fixed non-cancellable operating leases that expire on various dates through

July

2021.

Future minimum lease payments consist of the following (in thousands):

	December 31,
2017	$	1,705
2018		1,662
2019		1,460
2020		59
2021		34
Total	$	4,920

Total rent and lease expense was

$1.4

million,

$1.5

million, and

$1.7

million for the years ended

December

31,

2016,

2015,

and

2014,

respectively.

Warranty

Changes in our accrued warranty reserve incurred under our warranties were as follows (in thousands):

	Years Ended December 31,
	2016			2015			2014
Balance, beginning of period	$	461		$	755		$	709
Warranty costs charged to cost of revenue		208			135			156
Utilization charges against reserve		(27	)		(34	)		(110	)
Release of accrual related to expired warranties		(236	)		(395	)		—
Balance, end of period	$	406		$	461		$	755

During the year ended

December

31,

2015,

we adjusted previously established warranty reserves. The adjustment related to expired warranties which increased gross profit and reduced net loss by

$0.4

million.

Purchase Obligations

We have purchase order arrangements with our vendors for which we have not received the related goods or services as of

December

31,

2016.

These arrangements are subject to change based on our sales demand forecasts, and we have the right to cancel the arrangements prior to the date of delivery. The majority of these purchase order arrangements were related to various raw materials and components parts. As of

December

31,

2016,

we had approximately

$6.8

million of open cancellable purchase order arrangements related primarily to materials and parts.

Guarantees

We enter into indemnification provisions under our agreements with other companies in the ordinary course of business, typically with customers. Under these provisions, we generally indemnify and hold harmless the indemnified party for losses suffered or incurred by the indemnified party as a result of our activities, generally limited to personal injury and property damage caused by our employees at a customer’s desalination plant in proportion to the employee’s percentage of fault for the accident. Damages incurred for these indemnifications would be covered by our general liability insurance to the extent provided by the policy limitations. We have not incurred material costs to defend lawsuits or settle claims related to these indemnification agreements. As a result, the estimated fair value of these agreements is not material. Accordingly, we had

liabilities recorded for these agreements as of

December

31,

2016

and

2015.

In certain cases, we issue warranty and product performance guarantees to our customers for amounts generally equal to

10%

or less of the total sales agreement to endorse the execution of product delivery and the warranty of design work, fabrication, and operating performance of our devices. These guarantees are generally stand-by letters of credit that typically remain in place for periods ranging up to

twenty

four

(24)

months, and in some cases, up to

sixty

eight

(68)

months. All stand-by letters of credit, collateralized by restricted cash at

December

31,

2016

and

2015,

totaled

$4.4

million and

$3.8

million, respectively.

Litigation

The Company is named in and subject to various proceedings and claims in connection with our business. We are contesting the allegations in these claims, and we believe that there are meritorious defenses in each of these matters. The outcome of matters we have been and currently are involved in cannot be determined at this time, and the results cannot be predicted with certainty. There can be no assurance that these matters will not have a material adverse effect on our results of operations in any future period and a significant judgment could have a material adverse impact on our financial condition, results of operations and cash flows. We

may

in the future become involved in additional litigation in the ordinary course of our business, including litigation that could be material to our business. Based on currently available information and review with outside counsel, management does not believe that the currently known actions or threats against the Company will result in any material adverse effect on our financial condition, results of operations, or cash flows.

September

10,

2014,

the Company terminated the employment of its Senior Vice President, Sales, Borja Blanco, on the basis of breach of duty of trust and conduct leading to conflict of interest. On

October

24,

2014,

Mr. Blanco filed a labor claim against ERI Iberia in Madrid, Spain, challenging the fairness of his dismissal and seeking compensation (“Case

1”).

A hearing was held on

November

13,

2015,

after which the labor court ruled that it did not have jurisdiction over the matter. Mr. Blanco has appealed. Based on currently available information and review with outside counsel, the Company has determined that an award to Mr. Blanco is not probable. While a loss

may

be reasonably possible, an estimate of loss, if any, cannot reasonably be determined at this time.

November

24,

2014,

Mr. Blanco filed a

second

action based on breach of contract theories in the same court as Case

but the cases are separate. In Case

Mr. Blanco seeks payment of an unpaid bonus, stock options, and non-compete compensation. The court ruled that this case is stayed until a final ruling is issued in Case

Based on currently available information and review with outside counsel, the Company has determined that an award to Mr. Blanco is not probable. While a loss

may

be reasonably possible, an estimate of loss, if any, cannot reasonably be determined at this time.

January

and

27,

2015,

two

stockholder class action complaints were filed against the Company in the United States District Court of the Northern District of California, on behalf of Energy Recovery stockholders under the captions,

Joseph Sabatino v. Energy Recovery, Inc. et al

, Case No.

3:15

-cv-

00265

EMC

and

Thomas C. Mowdy v. Energy Recovery, Inc

et al

., Case No.

3:15

-cv-

00374

EMC. The complaints have now been consolidated under the caption,

In Re Energy Recovery Inc. Securities Litigation

, Case No.

3:15

-cv-

00265

EMC

The consolidated complaint alleges violations of Section

10(b),

Rule

10b

and Section

20(a)

of the Securities Exchange Act of

1934

based upon alleged public misrepresentations and seeks the recovery of unspecified monetary damages. On

October

12,

2016,

the Company and the attorneys representing the class reached an agreement in principle to settle all outstanding claims in the case. As part of the settlement agreement, the Company has agreed to pay the class an undisclosed sum, the entirety of which will be borne by the Company’s insurer. The settlement agreement is subject to approval by the United States District Court of the Northern District of California.

February

18,

2016,

a complaint captioned

Goldberg v

Rooney, et al

., HG

16804359,

was filed in the Superior Court for the State of California, County of Alameda, naming as defendants Thomas Rooney, Alexander J. Buehler, Joel Gay, Ole Peter Lorentzen, Audrey Bold, Arve Hanstveit, Fred Olav Johannessen, Robert Yu Lang Mao, Hans Peter Michelet, Maria Elisabeth Pate-Cornell, Paul Cook, Olav Fjell, and Dominique Trempont (“Individual Defendants”) and naming the Company as a nominal defendant. The complaint is styled as a derivative action being brought on behalf of the Company and generally alleges breach of fiduciary duty, abuse of control, gross mismanagement, and unjust enrichment causes of action against the Individual Defendants. Based on currently available information and review with outside counsel, the Company is not able to estimate a potential loss, if any, due to the early stage of the matter.

July

27,

2016,

a complaint captioned

erald McManiman

Gay

, et al

., RG

16824960,

was filed in the Superior Court for the State of California, County of Alameda, naming as defendants Joel Gay, Chris Gannon, Hans Peter Michelet, Alexander Buehler, Arve Hanstveit, Dominique Trempont, Robert Yu Lang Mao, Thomas S. Rooney, Jr., Borja Sanchez-Blanco, Audrey Bold, Paul M. Cook, Marie-Elisabeth Pate -Cornell, Fred Olav Johannessen

(“Individual Defendants”) and naming the Company as a nominal defendant. The complaint is styled as a derivative action being brought on behalf of the Company and generally alleges breach of fiduciary duties and violations of laws against the Individual Defendants. Based on currently available information and review with outside counsel, the Company is not able to estimate a potential loss, if any, due to the early stage of the matter.